The German (and British) competitiveness dogma (part III)

For those who still do not fully grasp what all the fuss about competitiveness is all about, Germany’s chancellor Merkel and British premier Cameron made it abundantly clear in Davos: It’s about lowering labor costs, liberalizing labor markets (i.e. reducing workers’ protections), and cutting social spending. Merkel even admitted that the implementation of such ‘structural reforms’ against popular opposition will only be successful under pressure (see Frankfurter Allgemeine of January 25, 2013: "Merkel: Wir brauchen Druck für mehr Wettbewerbsfähigkeit.") In Milton Friedman’s words: “Only a crisis – actual or perceived – produces real change” (Capitalism and Freedom) --->see my post on “The role of crises for Troika shock therapy” and the highly recommended documentary "The Shock Doctrine".

So, as pre-exercized in Southern Europe, a crisis is conjured up to justify far-reaching labor market reforms and other structural competitiveness measures in the rest of the eurozone as the price for Britain’s stay in the European Union (the following passages are cited from David Cameron's speech at Bloomberg in London):

“There is a crisis of European competitiveness as other nations in the world soar ahead…Europe’s share of world output is projected to fall by almost a third in the next two decades. This is the competitiveness challenge and much of our weakness in meeting it is, frankly, self-inflicted….[through] complex rules which restrict our labor markets"…and “excessive regulation”...“As chancellor Merkel has said, “if Europe today accounts for about 7% of the world’s population and produces 25% of its GDP, it is currently financing 50% of global social spending. And then it’s obvious that it will have to work very very hard to maintain its prosperity and its way of life.”…..More of the same will not see the EU keeping pace with the new economic powerhouses of the world…More of the same will just produce more of the same: less competitiveness, less growth, fewer jobs….That is why we need fundamental, far-reaching change.”

Apart from the fact that this kind of rhetoric sounds eerily familiar to the arguments that promoted financial market liberalization before the Great Financial Crisis, Cameron seems to view the favorable economic development of emerging nations as a zero-sum game leading to a “global race of nations”… “for the wealth and for the jobs of the future": "Europe is being outcompetet, out-investet, out-innovated and it is time we made the European Union an engine for growth, not a source of cost for business"...."You ought to deal with your debts, you ought to cut business taxes, you ought to tackle the bloat in welfare...." (see Cameron's speech in Davos, lecturing EU policymakers). "Now, back in the UK, we've been doing all of this."

Oh, really, Mr. Cameron ? And what are the results ? Let's have a reality check:  In Q4/2012, "UK GDP fell by a shocking 0,3%, which means that the UK is back in recession,".... unemployment is rising, the trade balance is deep in the red ..."and productivity seems to have collapsed". The explanation for the dismal economic performance is that the UK is following the wrong policy mix: "trying to aggressively tighten fiscal policy at the same time as persistently pressurizing UK banks to raise large amounts of capital is just the wrong thing to do." (Jim O'Neill, Chairman of Goldman Sachs Global Asset Management)

To sum up: the UK's economy is far from being the shining light in Europe - it rarely (if ever) has been. Why should Europe's policymakers follow an economic model which obviously is not working ?  

Yet, to the ears of Europe’s competitiveness queen Angela Merkel, Cameron’s words sound like music. She immediately endorsed his demands that Europe improve its competitiveness and proposed a second pact (in addition to the fiscal pact) for EU member states, committing themselves to structural competitiveness reforms where needed. See an excellent assessment of Merkel's new plan here: Merkel's Agenda des Schreckens.

With friends like that, Europeans don’t need any enemies !

Fortunately, there were also very positive developments at Davos.  Please check my next post for a report on those.

The German competitiveness dogma (part II)

I have explored some of the consequences of Germany's obsession with competitiveness in my posts The German competitiveness dogma, part I and The Blueprint of Labor Reforms in Greece: Germany's Agenda 2010. 

More evidence is appearing on the particularly damaging effects of the 'structural' competitiveness reforms closest to the heart of the Merkel government, namely the reduction of unit labor costs by way of nominal wage cuts and the liberalization of labor markets, which, in a recessionary environment caused by draconian austerity, results mainly in firings. Not surprisingly, the 2012 edition of the Employment and Social Development review of the EU commission finds that the Southern eurozone countries that had to implement these competitiveness measures in return for European financial 'assistance' seem "trapped in a downward spiral of falling output, fast rising unemployment and eroding disposable incomes." Since 2007 "the unemployment rate gap between the North and the South has widened from 0% in 2007 to 7.5% in 2011".

Evans-Pritchard correctly diagnoses a "demand shock as the real culprit" of these developments and concludes that the evidence "subverts the central claim of Europe's austerity mandarins that labour reform will somehow, magically, deliver recovery..." He already sees half of Europe in a great depression, "less acute than it was for the same bloc of states in the early 1930s but more protracted and ultimately deeper." He goes on to criticize the ECBs monetary policy as still too tight for most countries in the eurozone, implying that a looser ECB monetary policy would help lower the external value of eurozone export goods and thus lead to more exports and growth. This is the nominal devaluation approach toward higher competitiveness.

In this post, I'd like to focus on the German competitiveness approach via internal, real devaluation by way of wage reductions and labor market reforms. There are three main reasons why Germany will not support a nominal devaluation of the euro: First, because high-quality German export goods are not very price-sensitive (as recently admitted by Olga Wilde, Speaker of the German Industry Association). Second, because a nominal devaluation would awaken the inflation zombie by way of higher import prices. Third, because it would devalue the substantial amounts of euro-denominated savings deposits and other financial assets held by Germans. And so, the preferred German approach toward higher competitiveness rests on the internal, real devaluation of export prices mainly through labor cost reductions via cuts in nominal wages and non-wage labor costs (social security contributions) as well as general downward pressure on wages through the liberalization of the labor market.     

Underlying the German competitiveness doctrine are several faulty assumptions:  first, that the nominal cost of labor is the only determinant of export prices and export demand which is non-sense and without any scientific foundation [1]. Second, that nations compete against each other like big corporations. Paul Krugman, international trade expert and Nobel prize winner in economics, pointed out already in 1994 that this view is flatly wrong (see "Competitiveness: A Dangerous Obsession"): "The economic woes of countries cannot be attributed to 'losing' on world markets".... "The result of this obsession with competitiveness "is misallocated resources, trade frictions and bad domestic economic policies."

Looking at economic developments in Germany, it is abundantly clear that Krugman's claims are fully borne out by the evidence, as shown in my post on the Agenda 2010: the massive reallocation of resources away from Germany's internal market resulted in a dramactic worsening of living standards for the German population, with broadbased declines in real wages, the creation of a low-wage sector, and the widespread use of precarious employment contracts depressing general wage levels in Germany. Furthermore, Germany's bad domestic economic policies led to trade imbalances vis-à-vis other eurozone members and trade frictions with its non-European trading partners: the effective internal devaluation of German tradables resulted in mounting trade surpluses and is largely responsible for the huge economic imbalances that are at the root of the euro crisis. Currently, Germany's chronic trade surpluses causes trade frictions with the United States where Germany's competitiveness drive is viewed as a "free rider strategy, which relies on exploiting global demand rather than generating it at home," thus creating trade imbalances that are disrupting the global trade structure" (see The Telegraph: "Germany displaces China as US Treasury's currency villain"). 

At this point, it is important to recall that the Great Depression of the 1930s was caused by competitive currency devaluations as each country attempted to generate growth through exports. This provoked a vicious circle of retaliatory trade protections which eventually led to a complete collapse of international trade. The strategy to generate exports in a declining market through competitive devaluations became known as "beggar-thy-neighbor" policies as exports could only be generated at the expense of other countries.

Are we moving down the same destructive path ?  I believe, we may:

- On January 4, 2013, Bloomberg reported that "the world's developed nations are stepping up efforts to weaken their currencies"....While Japan's newly elected Prime Minister Shinzo Abe called for aggressive central bank action to boost growth and inflation, Switzerland has successfully blocked the appreciation of the Suisse franc, and the US Federal Reserve is continuing quantitative easing (monetary expansion through the purchase of Treasury bonds).

- On January 16, Bloomberg reported that eurozone chief Jean-Claude Juncker's complained of "a dangerously high euro": Russia warned that "the world is on the brink of a fresh currency war".

- Germany's Merkel government continues to impose nominal wage reductions in the Southern eurozone periphery, and structural labor market reforms designed to depress general wage levels and thus enhance competitiveness. This is nothing else but a competitive internal currency devaluation with similar export price and demand effects as a competitive nominal currency devaluation.

The competitiveness doctrine obsessively imposed in the eurozone and elsewhere will depress global demand and growth if every country follows it !

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[1] Unit labor costs, i.e. nominal labor costs per unit of output which is the standard measure of competitiveness, can also be reduced by an increase in output (the ratio's denominator). While holding labor costs (the numerator) constant, output can be increased through productivity enhancements which in turn can be achieved by investing in human resources (education, work training) and the tools they work with (investment in research and development). Such investments would have the added benefit to increase aggregate demand, employment, and economic growth !

The German competitiveness dogma (part I)

With the rising probability of another election victory for Merkel and her 'christian' democratic party, the PR machines are revving up for a post-election Agenda 2020. The protagonists in this PR-farce (Schmierentheater) are the usual culprits who, before the Great Financial Crisis, supported the competitiveness Agenda 2010 and promoted the deregulation and liberalization of Germany's financial sector: Joerg Asmussen, member of the ECB-Board and former state secretary in the finance ministry who arranged billion-€uro taxpayer bailouts for several German zombie banks, predicts a return of the 'sick man of europe' status for Germany if the country cannot fix its current "weaknesses" (see "Merkel Economy Shows Neglect Amid Concern Sick Man to Return", Bloomberg Jan 9, 2013).

It may come as a surprise that the strongest economy of the eurozone - an island of prosperity - may have weaknesses, given that the country boasts record employment levels, record export sales and tax receipts, a budget close to surplus and negative market interest rates on its federal bonds (meaning investors are paying for the honor of providing credit to Germany and the German people). But according to some economists, Germany's industrial production growth is too slow, labor costs are too high, productivity is not keeping pace with wage deals, the labor force is aging and shrinking, and "then there's the skills issue" (Joerg Asmussen [1]: "the workers of tomorrow aren't getting the education they need to compete globally"  and - god forbid - the country has lost its top-five spot in the competitiveness index of the World Economic Forum (see the Bloomberg article mentioned above) .

Oh boy ! The world export champion and whip-cracker for competitiveness in the eurozone is loosing its competitiveness ? The world is coming to an end !

Not mentioned is a small but decisive detail: between 2000 and 2010 the German work force hasn't benefited from any wage increases but instead suffered real wage losses, witnessed the spreading of precarious employment contracts formerly unknown in Germany, and cut-throat downward wage competition leading to hourly wages of €1 in some cases. While Germany's Agenda 2010 policies thus achieved a real devaluation of unit labor costs, these beggar-thy-neighbor policies created the huge trade imbalances which are at the root of the euro crisis:

The correct economic policy response to redress these imbalances would be to promote wage increases in Germany instead of economically non-sensical austerity measures in the euro zone's periphery. Yet, Germany's genius economists plan to worsen the imbalances by artificially manufacturing a non-existing economic crisis in Germany as an excuse for a second round of Agenda policies (see my blog "the role of crises for....shock therapy" and some reactions to the planned Agenda 2020 here and here). 

Can't say we didn't warn you about what will happen after a reelection of the Merkel government. If you don't like it, do something to prevent this outcome NOW !

“I do not feel obliged to believe that the same god who has endowed us with sense, reason, and intellect has intended us to forgo their use.” 

(Galileo Galilei)

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[1] Obviously, there is nothing wrong with the skills set of the German work force or they wouldn't be able to sell such excellently made export goods sought after by the entire planet. But what about your skills issues, Mr. Asmussen? Got an overdose of neo-liberal ideology and business economics ? Where were your superior skills when you recommended the financial deregulation and liberalization policies that cost German taxpayers hundreds of billion €uros ? It's time you paid for this, Mr. Asmussen ! 

New Year's resolutions and the fiscal policy plans of Germany's finance minister Schäuble

First of all, best wishes for the New Year 2013 to all my readers, a growing cosmopolitan community ranging from residents of Germany (my largest audience), followed by readers residing in the United States, Russia, France, the UK, Italy, Ireland, Belgium, China, and Croatia (ordered by number of pageviews). Next to this top-ten list of countries tracked by google, my blog has readers in Mexico, India, Indonesia, and Thailand interested in economic developments in the eurozone. If nothing else, this shows the growing impact of Europe's economic policymaking on the economic fate of many other countries on our wonderful planet. I hope, European policymakers will live up to this responsibility in the new year and beyond.

Not only Arianna Huffington of the Huffington Post would like to hear the following New Year's resolutions from European policymakers:

"We will learn that the best way to get rid of deficits isn't austerity but growth"

and addressed specifically to Angela Merkel: 

"I will realize that destroying the economies of Germany's trading partners is not good for Germany's economy."

With every new statistic showing Germany's economy slowing down due to declining demand from Southern Europe, Germany's Very Serious People in power begin to realize the latter (see also my blog of August 4, 2012: "Austerity chickens are coming home to roost in Germany"). However, the Schwabian housewife policy dogma of saving, saving, and saving again (among economists known as the "oxymoronic" - cit. Larry Summers: "you can drop the prefix" - expansionary austerity model) still seems to prevail in Germany's finance ministry:  The New Year had not yet begun when the news surfaced that Mr. Schäuble's finance ministry is planning a substantial fiscal austerity package to prepare for future charges related to the eurozone crisis. Designed by Dr. Ludger Schuknecht (a nerdy-looking dyed-in-the-wool fiscal policy hawk with experience at the IMF, WTO, and ECB), director general of fiscal policy and macroeconomic affairs at the finance ministry, the austerity package includes a higher VAT (a regressive tax which unproportionately puts the burden on lower-income groups), a reduction of the federal contribution to Germany's health fund, a new health 'solidarity' tax, a further increase in the legal retirement age, and a cut in widower's pensions.

Apart from the fact that this austerity package is politically ill-advised just before Germany's upcoming national election in September 2013, it is ethically questionable in view of the fact that Mr. Schuknecht happens to be a board member of the Hypo Real Estate (HRE), a bank that continues to benefit from a €100 billion taxpayer bail-out. (see my blog "Don't Shock the Countries, shock the banks/ters, part III: make the banks/ters pay !")  The German austerity plan also drew immediate criticism from the IMF's Managing Director Christine Lagarde for harming the growth propects in Southern Europe. In an interview with the German weekly "Die Zeit", Lagarde pointed out that Germany's relatively prosperous economy is needed to counterbalance the negative effects of austerity, not add to them. Germany and other countries "can afford to move ahead with consolidation at a slower pace than others," Lagarde said. "That serves to counteract the negative effects on growth that emanate from the cuts made in crisis countries." Lagarde further pointed out that "trade imbalances have to be reduced" by lowering trade deficits in the South [of Europe] and strengthening demand in the North (see the complete Zeit interview here and the Spiegel online report here).

This admonition of German economic policy from the highest levels of the IMF hierarchy follows on the heels of a damning US Treasury critique of Germany's chronic trade surplus, reflecting rising irritation in Washington over Germany's "free rider strategy, which relies on exploiting global demand rather than generating it at home." According to a UK Telegraph article of November 2012, US Treasury officials "told Congress that internal [im]balances within the eurozone are disrupting the global trade structure", specifically noting Germany's current account surplus of 6.3% of GDP, and Netherland's surplus of 9.5%. US Treasury officials argued that "the EMU regime of austerity in the South without offsetting stimulus in the North is creating a contractionary bias, holding back global recovery" and correctly observed that "eurozone surplus states have available room for fiscal stimulus but refuse to act", instead clinging to "fiscal austerity policies that constrict internal demand".

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These developments show that we all, but especially the voting population in Germany, need to keep a watchful eye over economic policymaking in Germany, the largest economy with a determining impact on the eurozone, and thus the global economy. While austerity and structural adjustment programs continue to be more than necessary for eurozone banks and banksters, we need to clearly signal at the ballot box our strict refusal of austerity policies for the general population, whether they be in Greece, Spain, Italy, France, Germany, or elsewhere in the eurozone. Instead, we need a substantial deleveraging, restructuring, and consolidation of the eurozone banking sector as well as a rebalancing and coordination of intra-eurozone trade and macroeconomic policies to preserve the euro and ensure a sustainable functioning of the eurozone economy.

"More than at any other time in history, mankind faces a crossroads. One path leads to despair and utter hopelessness. The other, to total extinction. Let us pray we have the wisdom to choose correctly.” (Woody Allen)